Insights - Incentives: 101
31 Oct, 2009By: Jeannette Goldsmith
Incentives have always been the focus of a lot of attention in the site selection and economic development world, and there has always been a general misunderstanding of the role they play in the business location decision. Incentives are certainly a part of conducting business and are, or should be, addressed by all locating, expanding or contracting companies. Doing so properly is a challenge for companies.
One misrepresentation sometimes seen in discussion about incentives is determining what an incentive is. It is important to make a distinction between location advantages, location assets, and incentives. In the economic development world, incentives are a deliberate policy or set of policies designed to make a location more attractive to particular investment decision makers.
This definition distinguishes incentives as policy actions as opposed to inherent location advantages. It also distinguishes between location assets as a result of general public investment and actions to attract specific industries or companies.
For example, proximity to the Atlantic Coast is a potential location advantage; the Port of Baltimore is a location asset, and reduced port fees for a company in conjunction with a location or expansion in the area is an incentive.
A general principle for companies to remember when dealing with incentives in a location decision is that projects drive incentives, incentives don’t drive projects. Other, more critical factors are more important early in the selection process, such as finding the right site that meets your project’s key criteria – in a community with a productive workforce.
Once the short list, or finalists, has been determined, full assessment of the overall costs associated with implementing a project in a specific community with and without incentives should be undertaken. At this point of a project, one can see very clearly how incentives can have considerable impact on the final decision.
For companies, or company project team members, that do not regularly conduct location decisions, understanding incentives is difficult, and properly managing the role of incentives in that decision process is even more difficult. Incentives can create an allure for a location that may distort the decision. It is the actual value of the incentive, not the marketing value of the incentive, which should be most important to companies.
Critical Characteristics of Effective Incentives
Valuing incentives can be difficult. For the company making a location decision, there are three critical characteristics to effective incentives. First, incentives must impact the decision. Second, incentives must differentiate one location from another. Third, incentives are generally more important later in the decision process.
For an incentive to matter to a company, it must actually impact the project decision. High impact property tax abatement or payment-in-lieu programs will have a major impact on high capital investment projects (manufacturing) but much less impact on low capital investment projects (office customer service centers). Similarly, even a high impact incentive must be able to be captured in order to influence a decision. Job creation credits can compute to high values, but without a corresponding state tax liability against which to use the credits, they will go unutilized.
For incentives to influence a company’s location choice, they must differentiate locations. Oftentimes, neighboring states will have very similar incentive programs that are important in that they create advantages relative to states in other regions and create value for the company, but do not distinguish between the competing, neighboring states. For this reason, custom incentive negotiations are often critical in making distinctions between locations.
For companies making decisions regarding new locations, it should be understood that incentives cannot make a bad location good. However, incentives can make a location more competitive and in the end distinguish one good location from another.